Correcting Distortions and Myths on Tax Relief and Deficits

June 7, 2012

Fueled by the unsustainable growth in government spending, the federal government’s budget deficits have increased sharply in recent years, eclipsing the $1 trillion mark the past three years and are on track to do so for a fourth. Gross public debt has already surpassed the size of the entire U.S. economy, and the debt trajectory in the years ahead, if left uncorrected, will stifle economic growth and ensure a diminished future for generations to come.

Some in Washington refuse to curb the government’s spending appetite, instead insisting that the federal government take more from the paychecks of hardworking American families. However, a quick review of the facts on tax relief and deficits indicates decisively that the federal government’s fiscal woes are not the result of allowing Americans to keep more of their own hard-earned money:

According to the Congressional Budget Office (CBO), 75 percent of the deterioration of the budget deficit over the past decade was due to government spending and the recession. Just 14 percent is attributable to tax relief in 2001 and 2003.

Over the past 40 years, revenues have averaged about 18 percent of gross domestic product (GDP) and outlays have averaged about 20 percent of GDP, with an average deficit of 2 percent of GDP.

Before the financial crisis hit, with the 2001 and 2003 tax relief fully implemented, revenues were at 18.5 percent of GDP, and the federal government ran a deficit of 1.2 percent of GDP that year, which is small compared to current deficits.

The financial crisis caused revenues to plummet, not due to tax relief, but due to high unemployment, the loss of trillions of dollars in personal wealth, and a decline in tax revenues as profits turned to losses and business investment turned to bankruptcies. Revenues plummeted, reaching 15.1 percent of GDP in FY 2009.

Revenues are now experiencing remarkable growth, despite a weak economy. Last year (FY 2011) revenues grew by $141 billion, or 6.5 percent, and CBO projects revenues will grow by $153 billion, or 6.6 percent this year. If not for the payroll tax holiday, this revenue growth would have been even stronger.

According to CBO, if 2001 and 2003 tax relief, current estate tax rates, and the alternative minimum tax “patch” are all permanently extended, revenues will still nearly double, from $2.4 trillion in FY 2012 to $4.6 trillion by FY 2022. CBO estimates that revenues will grow faster than the economy, even with the extension of this tax relief, reaching 18.7 percent of GDP by 2022, which is well above the historical average of about 18 percent of GDP (see chart 1)[1][2].